Market Sentiment Watch: Payrolls Friday but it's U.S. and China at the G20 later this month that everyone cares about as the White House seeks to arrive at a trade deal by then. In the energy space we've seen three lackluster deals in a week. We've owned none of the names in question having given up on NFX earlier this year after years of loyal ownership. We do see further group consolidation but our sense is that our core holdings will demand much better premiums. In today's post please find the the natural gas review (smaller than expect injection yielded a further increase in the storage deficit; look for a slightly bigger injection next week but our peak expectation remains in good shape and price supportive), comments on the PE quarter (3Q18 beat, no change to guidance, best in 3Q show Permian pricing), comments on the EOG quarter (monster beat), and some other odds and ends.

Ecodata Watch:

We get Nonfarm Payrolls at 8:30 am EST (F = 202,000, last read was 134,000),

We get unemployment rate at 8:30 am EST (F = 3.7%, last read was 3.7%),

We get average hourly earnings at 8:30 am EST (F = 0.1%, last read was 0.3%),

We get the trade deficit at 8:30 am EST (F = -$53.6 B, last read was -$53.2 B),

We get factory orders at 10 am EST (F = 0.5%, last read was 2.3%)

In Today’s Post:

Holdings Watch

Commodity Watc​h

Natural Gas Inventory Review

Stuff We Care About Today - PE, EOG

Odds & Ends

Holdings Watch:

ZLT

Yesterday's Trades: None

The Blotter is updated.

Personal Account:

PE - Added a personal account trading position at average $23.895. The 3Q18 report is due out after the close and we could wait but with the stock off 25% since the last report and with estimates having risen mid single digits 2018 to 2020 since then and with our expectation of one of the best if not the best differentials among "Permians" this quarter (again) we see the name as overdone and trading well below where it should on forward multiples. It's also entirely possible we get a sneak peek at 2019 (higher volumes, lower costs, narrowed outspend) as they roll the simplified development program forward. And we may see a small asset sale. We continue to own PE as the largest position in the ZLT or I'd likely add more there as well.

Commodity Watch:

Crude oil fell $1.62 yesterday at $63.69 on high volumes after the Bloomberg survey noted belowand the granting of at least eight waivers to import Iranian oil when sanctions go into full effect on Monday. (The waivers are not official yet, not all eight have been disclosed yet, and they are not permanent waivers, they just buy those countries time.We expect OPEC to begin a round of increasingly loud price supportive chatter as early as next week.This morning crude is trading off 20 cents early.

OPEC Watch 1: Bloomberg survey for October showed a month to month rise of 430,000 bopd, a day after Reuters survey showed group production up 309,000 bopd.

Saudi-Kuwait Watch: The WSJ reports the U.S. is attempting to broker a neutral zone deal to restart production. The U.S. is really transparently trying to cut oil prices. Saudi and Kuwait officials say zone issues are "a long way from being resolved".

Natural gas closed off two cents at $3.24 after EIA reported a smaller than expected injection that again increased the storage deficit. To be clear, natural gas is doing well to stay near current levels this time of year and is near the upper end of our near term expected range. Further, while we note the Point Logic data below shows we hit another new record for exports this week (next week's storage data) we expect a slightly larger injection next week as yet again higher production offset milder demand weather this week. We see storage peaking around 3.3 Tcf (unless we get a really warm period in the next couple of weeks) which should be price supportive for natural gas. We do see November as likely sloppy as withdrawals will be smaller than normal early on given high production and expected warmer than normal temperatures. This morning gas is trading off 5 cents early.

PointLogic Watch

Natural Gas Storage Review

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Stuff We Care About Today

PE Reports Strong 3Q18 Results; No Change To Guidance; Probably Close to Best in Show 3Q18 Permian Oil Realized Prices; Balance Sheet Improved, Asset High Grading Under Way, More Strong Well Results; Improved Takeaway Insurance for 2019.

The 3Q18 Numbers:

Oil differential: $6.66 below WTI and a $7.43 premium to the average Midland price. As they were in 2Q, we expect PE to sport one of the best if not the best realized oil price among Permians this quarter.

Cash costs:

LOE: $3.72 per BOE (vs $3.66 in 2Q and guidance for the year of $3.50 to $4.25)

G&A: Record low at $3.07 per BOE (vs $3.12 in 2Q and guidance for the year of $3.25 to $3.65)

Guidance:

2018 volumes: No change vs prior guidance of 106 to 111 MBOEpd (64% oil and up 60% on mid),

2018 capex: No change vs prior guidance of $1.7 B (which was increased from $1.5 B on mid with the 2Q call).

2018 cost guidance: No change. They reduced per unit cost guidance with the 2Q release.

2019 guidance: Not yet. But they did say expect free cash flow by YE19.

Highlights:

Holding flat at 16 rigs for the last 4 quarters now despite the higher well count noted for this year's program on the 2Q call. This quarter they set another record for completed lateral footage and added 45 net wells (9.4K' average; > 420,000' of stimulated lateral in the quarter). This improvement is largely a function of more rapid completions.

D&C/ft costs down 9% sequentially (more regional sand, longer laterals, shorter cycle times). Last quarter there was a substantial inflation based increase in both sub basins that may have pressured the name so this is a bit of welcome news.

Each quarter they try to showcase an area. This quarter it's Martin County:

Noting the best rate for PE from a 3 well pad, the Hayeden Pad in east Martin,

Second pad also strong and both running ahead of industry average cumulative production curves in Martin.

Noted high % of recycled water caused no degradation and they are accelerating use of recycled water which will further reduce D&C costs while lowering LOE.

Balance sheet:

Liquidity: $1.2 B (cash plus undrawn $991 mm revolver),

Net debt to annualized EBITDA of 1.3x vs 1.5x at 2Q.

The liquidity and debt metrics exclude $170 mm in cash to be received in 4Q from acreage high grading efforts (excised 1,200 BOEpd at 55% oil cut and 11,850 net acres that were non core). Again, this divestiture does not impact their 2018 guidance.

Nutshell: Strong quarter. 60% growth 2018 growth, better than peer group costs and realizations (NGLs saw a 15% sequential increase in prices too), yielding top of upper quartile EBITDA margins, an increasingly strong balance sheet, and a reversal to lower D&C/well/ft and rising estimates for 2018, 2019, and 2020 are all juxtaposed against a stock price that has fallen 25% since the day before the 2Q call. We continue to own PE as the largest position in the ZLT, currently at about 9% of the portfolio and added a Personal Account position yesterday as noted in the Holdings Watch section above.

2018 capex: Increased to $5.8 to $6.0 B vs prior guidance of $5.4 to $5.8 B. Normally this might be viewed as a negative but given the balance sheet, "premium" returns being generated, and the ample and higher than expected free cash being generate the continuity the reload to forestall end of year budget exhaustion makes perfect sense.

2019 volumes and capex: Not yet.

Highlights:

Austin Chalk - Noting 14 gross / 10 net wells with IP30's of 2,485 BOEpd (73% oil )from an average 5,000' lateral. This is the strongest rate of the quarter by play on a per foot basin. This may have read through for MGY in Karnes for A. Chalk.

Secured 65% of 2019 service needs and they self source 25% of their well costs. They see lower well costs in 2019 again.

Reiterated they are replacing "premium locations " (30% ROR at $40 oil/ $2.50 NG) at 2x the rate they are drilling them. Now have about 9,500 locations (13 years at current pace).

Divesting UK assets with proceeds due in 4Q (should be a small sum).

Balance sheet and Other:

Net debt to annualized EBITDA of 0.4x.

They plan to cut the debt essentially in half from just over $6 B now by 2021.

Nutshell: As the heading of their press release stated, it was an outstanding quarter. We doubled our position in EOG in the ZLT in September at $115.03 but it's still a smaller position for us and we are likely to increase it again in the next few weeks to months.

Other Stuff

We will have the 2nd iteration of So Far This Quarter in next Tuesday's post.

Next week's 3Q18 reports from names of interest: LPI, PDCE,

And from owned names: REI, JAG, XOG, FANG, OAS, and PXD.

As always, if you know of a name reporting and don't see it on the list please let me know.

9/6/18 – HCLP – We sold our small HCLP position for $12.20, up 6% on a distribution adjusted basis. Increased price and utilization risk has crept into all of the sand stories for 2H18 and estimates are falling for most names. Will continue to monitor and may re-enter if we see extreme sand group weakness and at that time still expect strong 2019 demand levels.

I want to take a moment to discuss next week's vote in Colorado. As a part of the Colorado community for many years, we have taken a leadership role in opposing Proposition 112. I'm proud of the engagement of our employees in helping the community understand the substantial negative impacts Prop 112 would have on Colorado's economy. While the results of the vote will not be known until next week, I remain confident that the measure will be defeated.

We continue to receive questions regarding future impacts under different scenarios in the state. Rest assured, we have completed thorough contingency planning and have plans in place for all potential outcomes.

I want to reiterate that we have been strategic in how we have set up our DJ Basin position. Through a number of transactions over the past several years, we have concentrated our acreage in the oil-rich rural areas of the basin. In the meantime, we have also been protecting our drilling inventory through proactive permitting, including the Comprehensive Drilling Plan I previously mentioned.

Q) looking to accelerate free cash – how do you look at next step with free cash – activity vs other things

A) Job #1 is to get there. Then have menu of options. One use is return to shareholders (there's a big one sitting across the table from me)

Q) 2019 – well pads and concentration of activity

A) There will be a moderate increase in pad size, so 1 to 1.5 wells more per pad on average. Plan to evenly deploy rigs inside the core. (they have a massive inventory to go after in the core).

Q) deliberate reduction of equipment utiization – how does that work with the service providers

A) we try to be transparent with them. We have been with many of them for 10 years, but try to tackle as a team … it's not a tight market which is fortunate for us (people can't really balk at you and run to demand somewhere else)

Q) Infrastructure spend

A) we saw a nice reduction this quarter, due to prior year's pre spend, see that grinding down over time.

Excited about the recycled water pilot, will roll out methodically and don't see it as a big increase on infrastructure spend

Q) completion efficiency

A) seeing it as sustainable go forward (not going to go into details on how achieved)

A) it wouldn't be a kneejerk, given hedging but yes, moderate and stick to budget

Q) weather

A) 4 lane highway washed out in w TX, not really a material impact to us, but has throttled some rig moves which actually helped with our need to pull back a bit in 4Q

Q) is going free cash flow sooner a defensive move or something else

#analysts

A) definitely more mature, volatility is constant in the industry, it allows to weather storms. Says flipside the run in oil has been with strong dollar and takeaway is about to improve in the Permian and shale is allowing US shale to grow within cash flow and compete with other industries for cash flow.

Q) corporate decline

A) 2018 started 45% and goes down 2 to 3% next year and thereafter. On the gas side mid 20%s.

A) have said 165 gross wells, that leaves 30 or so for 4Q (did 46 this quater), then said it will be down a few in 4Q, maybe 35, maybe 40, and then cadence is not an immediate snap back in 1Q and then higher 2Q-4Q19

Q) New focus on cash flow neutrality – thoughts on new metrics to add to incentive plan for 2019

A) Yes, fulsome discussion going on on that.

Good answer. Last year at this time I recall OAS saying it was too late to add them in to the coming year. Not well received.

PE Got the impression the new guy Matt will be a bit more conservative than the outgoing Bryan. When asked about the lower rig count Bryan just attributed to a new sheriff in town. With EOG getting knocked for some overspend, it seems clear what the street wants.

In looking at the CVX quarter, I came away with less expectations for Permian adds. The net crude price they received in the 3rdQ was $69/bl. Maybe the $10 differential between Brent & WTI makes capex overseas more attractive. If SLB and HAL are correct that not enough money has been spent overseas to keep up with production, maybe projects overseas have better economics.

S&P approached 200dma from below and retreated….obviously seeking conviction and a bit of see saw action is expected before fear subsides….

Oil approached long term support at 62.50 – 63 range (June low) and attempting to find a bottom….i think it finds it as long term bull (healing) in oil is intact ….

Anyone catch Currie this morning on Bloomberg radio? He has really turned bullish on oil and clearly stated being overweight oil is the way to go…..Sees global glut gone and in fact sees signs of constraints in global supply…..

Pompeo: Of the eight countries receiving the waivers, six will import at “greatly reduced levels,” he said. The other two are at or near zero but receiving a waiver gives them flexibility and time to end their dependence on Iranian oil imports. BBG

President @realDonaldTrump is reimposing all sanctions lifted under the unacceptable Iran deal. The U.S. is reimposing the toughest sanctions ever on Iran, targeting many of the corrupt regime’s critical sectors.

It was resilient until October arrived. It's a less well known name. It's coming up on earnings.It's gone from an all time high of $15 at the end of September to 12.30 now which given the hit on the group in October is not out of line. Volumes have been a bit lighter of late than they were in the constant move up. You had two lackluster EFS buyouts this week alone. And in October you had the Permian diffs improve. Otherwise, pretty quiet and they don't report until week after next.

Having been around here for a long time, I believe that managements are starting to realize that co. performance, low ebita no's, cheap NAV's really mean nothing to the investment public. This is evidenced by how cheap they trade relative to the underlying commodity and on a relative basis to the market.

Stock options obviously have not worked as a form of compensation. Therefore, what do you do. Well listening to PE they are going to go into a cash flow model, seemed to be better received than EOG, which continues to reinvest there cash.

I like COG for that reason. I am also not thinking of selling my NFX as the combined co. is going to increase dividend and buyback shares.

Its like you can grow the most unique tulip in the world, but if no one wants to buy it, not much of an investment.

– Free cash vs Outspend has become more of a weighted factor on the EBITDAS metric over the last 18 to 24 months and so you can have lower debt metrics not boosting the ebitda multiple as much as they once would have IF you are outspending to achieve that (with greater outspend tied to more EBITDA metric suppression if that stresses the balance sheet.

What PE is doing is far from unique. Every name we follow in the Permian seeks to do that over time and the idea that they said end of 2019 today only means that they are looking at it arriving a couple of quarters earlier than it otherwise was set to.

EOG is free cash flowing now (half a $B this quarter alone). The hit on the quarter was the usual hit that happens late in the year with companies that up capex and said capex really doesn't do anything for them in terms of current year production since a 4Q spud is 1Q19's volumes in large part. For the record, I get what they are doing but the reaction is all too typical (beat, but a capex raise and only nudge up in volumes … it's short sited but commonplace).

As to holding NFX, can't blame you. ECA got a steal. I don't follow ECA (unowned) and never really felt the need to and over the long run, it did poorer than NFX. NFX, smart guys, would still be around had they monetized China 2 years ago and then Bakken more recently, maybe the Uinta too.

re 56- who is the "they" that wants more. I think the mood is such that we don't want more wells and if you have extra cash, use it in away that distributes it back to the shareholder. Market for our cos., other than in short bursts has been limp at best.

– But I think it's should reasonably be times to a maturation of the company.

– No one should expect a 10,000 BOEpd Permian to kick off a dividend or buyback shares.

– From a sustainability standpoint, they're just too small (with oil anywhere near here at least).

– Lower volumes mean higher per unit cash costs meaning that for the same $68 oil (near the 3Q avg) that a PE converts into $36/ BOE of EBITDA, the little guy might be in the low $20s.

– And PE is well over 100,000 BOEpd now … and they are not to FCF yet.

– Their operating costs are tiny and they could go into low growth maintenance mode and kick off a bit of free cash right now but again, if you want return to shareholders you want it to be consistent and sustainable.

– I see some analysts expecting people to go to that mode and "give something back" too soon.

– That's where the high growth that got you into the position to just consider it comes into play … in a negative way.

– So much of your production is recent vintage that you have that 40 to 50% corporate decline rate to fight.

– And that's for a company of size. For little guys, it can be worse. They also can have bigger hits on production due an event that might encompass a greater % of their well portfolio, from weather to offset frac ops.

– So as I like to say, growth and fcf are an outcome of all the good planning that goes into going after the best returns you can afford given your balance sheet.

Re NFX

– If I were them I would have been tired of fighting the Street.

– Everything from Parent/Child issues on a neighboring pad that was overzealously guided as to expectations to the west of STACK two quarters back and which was then misconstrued to mean something about NFX's STACK child EURs to the occasional quarter where they completed wells in a known gassier window of the Anadarko Basin, only to be punished by the Street for having a gassier cut that quarter and despite the fact that not only did they beat on volumes that quarter but they beat on oil … they just had more gas that analysts expected …. that would be trying

Meeting your own expectations and guidance quarter after quarter and still getting called for "falling short" of some analysts excel math has got to wear on a guy.

re 74 – I'd prefer $20 in cash/sh plus 0.15 a PXD share + debt assumption. Too easy to give back a "premium" with an all stock offer. They could to the cash piece with current cash on the balance sheet and the pro forma net debt / EBTIDA would still be bullet proof.

RE 80: Still like all three–even more now with lower prices. Also ET and MPLX are very attractive. I still like EPD and TRGP but so does everyone else so they are not as cheap as the previous names. Still solid choices though. AM/AMGP and EQM/EQGP are each going through simplification or divestment atm and we are entering the YE period so there are likely to be odd moves (people selling/buying for various reasons not related to fundamentals). They are also single-basin Appa midstreamers that currently focus on gathering and processing vs longer transmission so they have less diversification and higher risk than the other names mentioned. That said, their growth profiles are superior to any of the other names so there is potential reward for the higher risk. AM/AMGP will become AM by the end of Q1 and will be one of the best looking midstream names (C-corp, no K-1s, no taxes until after 2021, low debt (3x is low for a midstreamer), high DCF coverage and rapid future growth) with metrics that look superior to almost everyone else (except current yield, but that will change with growth). AM/AMGP also has a JV with MPLX in Appa that is very promising (included in the metrics, not additional to them). As always, please DYODD.

thank you for the Midstream thoughts….continue to think that these names offer compelling value and income opportunity with several names yielding in the 7-9% exceeding compelling real estate deals in this rising interest rate environment